Reading the Yield Curve

The Treasury yield curve is at its steepest since February. That’s a widely recognized sign that the economy is set to strengthen. Researchers have recognized for years that the slope of the yield curve has proven itself a worthy leading indicator.

That suggests we should take comfort in the wider spread. As Bloomberg reported over the weekend, “the difference in yield between 10- and 2-year notes increased for a third week, rising to 272 basis points yesterday, or 2.72 percentage points, from 268 basis points on Dec. 10, according to Bloomberg data. The spread touched 289 basis points on Dec. 15, the widest since Feb. 23.”

But here’s a reason for wondering how much good news is really embedded in the spread these days. The Cleveland Fed advises that the yield curve predicts “real GDP will grow at about a 1.0 percent rate over the next year, the same projection as in October and September.”

Growth is good, of course, but 1.0% is dangerously close to stall speed. One percent is also well below the 2.5% pace in this year’s third quarter. In fact, that’s set to rise tomorrow in the scheduled release of the government’s third and final Q3 GDP report. The consensus forecast calls for a slight uptick to 2.7%, according to Briefing.com. But is it downhill from here? Yes, according to the Cleveland Fed’s interpretation of the yield curve tea leaves.

A forecast is just a forecast, of course, and even a yield curve prediction isn’t fate. But if you’re going to consider these numbers as something more than noise, the main message is clear: the recovery is going to remain wobbly for the foreseeable future.

James Picerno is a financial journalist who has been writing about finance and investment theory for more than twenty years. He writes for trade magazines read by financial professionals and financial advisers.

Over the years, he’s written for the Wall Street Journal, Barron’s, Bloomberg, Dow Jones, Reuters.